A note on the dynamics of incentive contracts
AbstractLaffont and Tirole (1988) show that when the uncertainty about the agent's ability is small, the equilibrium must involve a large amount of pooling, but whether the continuation equilibrium induced by a optimal first-period menu of contracts is partition or not remains unclear. They construct a nonpartition continuation equilibrium for a given first-period menu of contracts and conjecture that this continuation equilibrium need not be suboptimal for the whole game under small uncertainty. We show that, irrespective of the amount of uncertainty, this nonpartition continuation equilibrium generates a strictly smaller payoff for the principal than a different menu of contracts with a partition continuation equilibrium. In this sense, Laffont and Tirole's menu of contracts, giving rise to a nonpartition continuation equilibrium, is not optimal. An intuition behind this result is provided that may shed some light on the problem of dynamic contracting without commitment.
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Bibliographic InfoArticle provided by Springer in its journal International Journal of Game Theory.
Volume (Year): 40 (2011)
Issue (Month): 3 (August)
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Web page: http://link.springer.de/link/service/journals/00182/index.htm
Other versions of this item:
- Ching-jen Sun, 2008. "A Note on the Dynamics of Incentive Contracts," Economics Series 2008_23, Deakin University, Faculty of Business and Law, School of Accounting, Economics and Finance.
- Sun, Ching-jen, 2007. "A Note on the Dynamics of Incentive Contracts," MPRA Paper 9813, University Library of Munich, Germany, revised Feb 2008.
- D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
- L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
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- Schilizzi, Steven & Breustedt, Gunnar & Latacz-Lohmann, Uwe, 2011. "Does tendering conservation contracts with performance payments generate additional benefits?," Working Papers 100883, University of Western Australia, School of Agricultural and Resource Economics.
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